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"Why Homebuilders Aren't Hammered"

By Jim Cramer
RealMoney.com Columnist
11/17/2006 9:30 AM EST

The whole time the housing stocks have been booming, the media's reporting on it has been brutal. There's a systematic effort by reporters and critics everywhere to pronounce the industry dead.

I always joke, "Have they looked at the stocks?" It's uncanny to see a move so disparaged every step of the way. Plus, you don't even get the caveats, which are, "I know I have been wrong in not seeing the bottom."

It's amazing.

I have two theories about why that is. One is that if you are buying a home, you know prices peaked. Or if you are in the market, you sure do feel the weakness. That's an easy story for the media to pick up. Lots of "For Sale" signs. Anecdotal evidence of friends not being able to sell houses or apartments, etc. (Again, that's why my real estate partnership moved its action to Mexico. The rise in Homex (HXM - commentary - Cramer's Take - Rating) reflects our business.)

The second theory has to do with how stocks are valued. This is the theory that eludes the media.

There are times when stocks are overvalued relative to their fundamentals. Thursday, Sears (SHLD - commentary - Cramer's Take - Rating) was considered overvalued vs. its fundamentals. After that it was Starbucks (SBUX - commentary - Cramer's Take - Rating). There's talk today that Hewlett-Packard (HPQ - commentary - Cramer's Take - Rating) may be overvalued vs. its fundamentals.

But there's very little talk about what happened to the homebuilders when they bottomed, and that's because they got undervalued vs. their fundamentals. I am not saying that now they are similarly undervalued. They have moved several points up in their earnings multiples, and they may very well be fairly valued in here unless we get a takeover bid or private equity bid in the next few weeks.

What made them undervalued? It's a concept that eludes the media: the price-to-earnings ratio. When stocks get to 3 or 4 times earnings and the earnings aren't about to turn to losses, you almost always make money buying them. You just don't get hurt that much because you tend not to get stocks down to 2 or 3 times earnings. The only time I have ever in my whole career seen a stock selling at 2 times earnings not work was Bethlehem Steel, and that's because earnings turned to gigantic losses that very next year.

Given the cutbacks in building, the sale of land, the termination of options and the better balance sheets than ever before in a downturn, homebuilders trading at 4 times earnings was just plain wrong. And it will be wrong again if, as the bears say, it will happen again.

Homebuilders are now national. In the old days, when a region turned cold homebuilders would go belly-up. We had one in New Jersey not long ago go bankrupt. It was simply too concentrated.

But when a homebuilder can shift construction to an area that is still growing while it sells off land that might have been bought much more cheaply three or four years ago, that's a prescription for a down year but not a crushing year. A 4 multiple reflects more than a down year; it reflects a hideous decline, and we're not getting that despite the 40% cancellation rates.

Frankly, I'm amazed that these firms aren't doing worse given those cancels. And that's exactly why the stocks aren't performing as badly as the bears would expect.

Plus, the robust nature of the market when everyone has pronounced it dead is incredible.

Again, the homebuilding stocks have rallied huge off the bottom. They may not deserve to be here. But part of the bear case was rates going higher. They have gone lower. Another part was high gasoline prices that kept people from looking far from or moving far away from urban centers. That's not the case anymore. A final part was that the houses got too expensive. But typically, people move not to invest but to live. There's only so long that you can hold off.

That time, when you can't hold off any longer, has now come.

And the stocks aren't going lower than they did when they bottomed because of that bountiful change in circumstances.

At the time of publication, Cramer was long Sears Holdings and Hewlett-Packard. "

(in www.realmoney.com)